Taxation Law And Practice For Finance Taxable Purposes

Part A. Arthur Murray (NSW) PTY LTD V FC OF T (1965) 114 CLR 314

Describe about the Taxation Law and Practice for Finance Taxable Purposes.

This entire assignment speaks about Australian taxation laws. By giving example of a company who deals in funeral services and ancillary activities, aspects of their transactions and their method of taxation are put into context. By referring to the Arthur Murray case, question has been raised as to what method is to be followed to assess income derived. Two methods have been discussed according to Income Tax Assessment Act, 1976. They are based on terms of when cash is received and when there is occurrence of a debt. The time for assessment is found necessary to determine as to when income should be considered for taxable purposes. Here it is also shown that how the company is paying cash dividend and its treatment of tax, rental storage space taken on lease and the treatment for tax for long service leave account. Tax treatment has also been shown for the various kinds of expenditures made by the company.

Facts

The taxpayer in this case, Arthur Murray ran a business of teaching dance. He used to take fees first and then used to provide lessons. He used to give discounts to his students so they would be attracted to come to him. The tuition fees which he used to get in advance used to be entered in a ”suspense account” as a subheading “unearned deposits- untaught lessons account”. When he used to finish giving the tuitions, Arthur used transfer a sum of money from the “suspense account” to the “revenue account” which matched to the actual fees for the dancing lessons provided. It was usually distinctly agreed between Arthur and his students advance tuition money would not be subject to return. However Arthur used to return the money for lessons not provided. Arthur never used to mention advance tuition money as “income derived” until the time he had given the actual tuition. This practise was followed though he used to get advance tuition money (“Australian Taxation Study Manual”, 2016). When calculating his earnings, Arthur used to take into consideration only that money that was taxable and related to the dance classes in those particular years.

Contention/Rebuttal

 The Commissioner of Income Tax came into the conclusion that the teacher used to get his earnings on “a receipt basis” which basically means that his tax would be calculate on the date he gets the money though he had provided lessons or not. So he decided to categorize his advance tuition money under his taxable income according to s 25(1) of the Income Tax Assessment Act 1936 (Cth (“INCOME TAX ASSESSMENT ACT 1997”, 2016)).

i) When income is derived?

Issues

The question that was discussed in the case was that whether Arthur calculated and declared his advance tuition money in the year he had actually given the tuition or the year when he had actually received the tuition money.

Verdict

Three judges presided the hearing of the present case held in the High Court. They were Chief justice Barwick, Justice Taylor and Justice Kitto. They derived that:

The teacher had depicted the tuition fees to be received in the year when he had given it and not on the year he had actually got the fees.

General norms suggest that an income of a person cannot be related to money given earlier to the service for which it is paid. Accounting and commercial norms do not support in case of a trade involving buying and selling of goods and services, money paid in advance. Such transaction cannot be termed as income. The judges completely agreed to this point and did not find any points to disagree.

Though it was expressly agree between Arthur and his students that the advance tuition money would not be given back, he used to give back money for which lessons were not provided. Hence it was not possible for Arthur to treat that revenue as income since he might have returned that money as refund. So question arose in that scenario where the receipt is registered without actual money is entered as income. It was held that one could not be taxed or charged just because he/she receives earlier than the service or goods provided. The earning or revenue will remain as proper income even if the mode of receiving the money is different. No legal obstacles can be imposed on the receiver because he/she wishes to operate it at their own free will. However it is the duty of the receiver of the money which not actually earned to be kept for situations when the money could be have to be returned if the situation of money for value is not satisfied. The revenue pattern holds a characteristic where money might be returned. The judges felt that the present scenario is quite different and they acknowledge the facts but it could also be possible that the money received had the characteristic of assessable tax money of the taxpayer.

i) When income is derived?

According to section 6 sub section 5 of Income Tax Assessment Act of 1997, taxpayers must take into consideration the regular earnings received across the year of earning while assessing income for year of income. According to Brent v FC of T 71 ATC 4195, tax laws have not defined the term ‘derived’. They do not have any process as general method to discover the total earnings received by the taxpaying person. Since there is no definite law income derivation is found by applying day to day commercial norms (Tiley, 2004).

Relation of the Arthur Murray case with the present case

There are two business accepted ways that helps in finding income:

Cash Basis: Also known as the ‘receipts basis, under this method income is determined when one gets cash or something that can be converted to cash is received. According to Section 6 Subsection 5 part 4 of the ITAA Act 1997, in determining whether the person paying tax has received regular money, it is considered that the person received the income as soon as he applied for it. This rule will function when person owing money to the taxpayer directly gives the money to the person to whom the taxpayer owes money.

Accruals basis: Also known as the ‘earnings basis’ income is determined when the taxpayer actually earns it. This occurs when debt comes into picture. This situation takes place when services are given or necessary goods are provided, and an invoice has been given by the taxpayer to the buyer. Here the customer might not pay for the goods or services.

While analysing the incomes from the funeral services and associated activities it can be asserted that all those fees which are yet to be received by the company, e.g. fees yet to be paid under the ‘net, 30 days invoice’ and the fees to be derived from the contracts of external insurance for which invoices under the ‘net, 30 days’ are issued are income according to earnings basis. They are those services whose payments will only be received when the services are going to be provided.

Income under the receipts basis is the money received from RIP Finance Pty Ltd providing advance money. Also the money which is given by the customers periodically for future funeral purposes come under the receipts scheme. When the money is paid then only arrangements for funeral is made.

In the Arthur Murray case, the dance teacher used to take money in advance from the students and provide services post payment. However he would return the payments if he could not provide the lessons. There was a contingency for the refund of money. Otherwise his income could be treated under the receipts basis. Similarly in this case ‘Easy Funeral Plan’ was a plan where money was provided in advance by the clients for future funerals. Services were only provided when the money got paid. However unlike the other case no money was returned or remitted. Hence income can be assessed for tax purpose on the date when contributions were made.

Tax payer’s role in method of accounting for tax

Section 6-5 subsection 2 and 3 of Income Tax Assessment Act, 1997 says that taxpayers have to put their total income under the ambit of income which is assessable for tax purposes. There are no hard guidelines for taxpayers of the method of keeping accounts. It is the choice of taxpayer to choose the method of accounting which would help in the proper portrayal of his income for that particular year. The methods are on the basis of receipts or earnings. In terms of cash basis, time for assessing income is when money is received though service or goods are not provided. In case of earnings basis, income is actually considered when service or goods is provided and money is due for payment.

‘Forfeited Accounts Payment’ Treatment

By showing the money transferred from ‘Easy Funeral Plan’ to ‘Forfeited Payments Account’ tax assessibility cannot be avoided because the company used to collect money before providing services. In this case the defaulting payers were not provided services. So not getting money for services not provided did not create any transaction. The income received from the plan would still be assessed under ‘receipts basis’ since money was received before providing of service.

Nature of trading stock and tax treatment for that:-

As per the section 70-10 of the income tax assessment act 1997, the stock in the nature of trading can be explained as any substance produced or acquired or manufactured which is held for the intention of construct, sale or exchange in the general course of business. Therefore, an item can only be trading stock if it is capable of sale as part of a trade, or if it goods, property or services in the process of production but not yet completed.

RIP Pty Ltd. is a private limited company which is holding a collection of three types of caskets along with a variety of accessories for trading purpose. So these stocks kept by the company should be taken into considerations tor the purpose of computation of tax. Now the company will get a delivery of supplies for which it has already made a payment of $25000 in June 2016 but the good will be received by the company on August 2016.

The concerned company can classify their methods of earnings under two heads:-receipt method as well as earnings method. Receipt method is a technique in which the earnings is detected when it is arriving not when it is accrued as per the section 6-5(4) of ITAA 1997. It is also termed as cash received basis. On the other hand, Earning method is a technique in which profits is derived as soon as it is earned. It is also termed as accrual method.

As per the situation stated above, the company that is ROP Pty Ltd is prepaying the money on June 2016 whose original date of payment is August 2016.  For the taxation purpose of small business enterprise as well as non business enterprise especially in the case of prepaid payments then for that particular situation then the payments will be deductable when the service period exceeds a time gap of 12 months.

A prepaid expenditure is the expenses that are to be incurred under a contract for something to be done in the next accounting year.

If the expenditure is incurred for something that was to be done in full within this income year, that is, 1 July 2016 to 30 June 2017, it is not a prepaid expense and the prepayment rules do not apply (Ato, 2016).

Thus, for $25000 no treatment for tax is to be made because the prepaid expenses is incurred in June 2016 but the goods are to be received by the company within the same accounting year.

Adjustment with regards to items (ii), (iii), (iv) for taxation purpose:-

Dividends are received by the shareholders when paid.  Any kind of cash dividend that the resident shareholders of Australia receive forms a part of the taxable earnings from Australia. The dividend which is paid in cash may fully or partially be franked according to the Australian Dividend computation method. Franked Dividend is the kind of dividend in Australia which abolishes the method of dual taxation of dividend. Any kind of franking credits involved with dividends naturally creates an element of taxable earnings in Australia. On the other hand, the individual is allowed to get a refund of tax based in the franking credits involved to dividends. If the taxable earnings of the individual is too small to make the individual accountable to pay tax or overall tax burden falls below the franking credits then the individual will be permitted to obtain reimbursement from the taxation organization of Australia over and above the franking credits. Any Company of Australia is not entitled to receive any compensation but can carry forward the tax laws for utilizing it against future earnings (Nab.com.au, 2016).

If the company owns a rental property from where it receives earnings then it can demand for any expenses related with the income. The expenditure related to the owning and functioning rental property should be deductable to tax. There are few examples of rental property expenses for which we can claim tax return such as legal expenses, lease costs (registration, stamp duty) repairs and maintenance etc (Etax.com.au. 2016).

The payment for yearly, sick and LSL will not be deductable unless it is compensated. In this case the managing director of the company has commenced three months long service leave for which the company has paid him in advance and the amount is $22000. Thus the amount of $22000 is being deductable under the taxable provision.

Deductions available for expenditure in item (v)

On-site car parking:-

Cost specifically excludes

~ costs that are not of a capital nature:

s40â€Â220;

~ costs that are deductible elsewhere:

s40â€Â215

Particulars	Amount to be deducted	Amount to be taxable
Amount to be deductable	$57466	Nil
Taxable amount ($125000-$57466)		$67534

Depreciating asset:† Asset that has a limited effective life; and is reasonably expected to decline in value over the period of use. But it excludes:

• Land and trading stock
• Intangibles (generally)

The taxable income for the year 2015-16:-

Particulars	Amount	Amount
Franked cash dividend		$21000
Rental storage space		$47500
Long service leave account		$22000
Onsite car parking		$40000
Land		Nil
Preliminary architecture design		$250000
Total		380500

Reference:-

Australian Taxation Study Manual. (2016). Google Books. Retrieved 8 September 2016, from https://books.google.com.au/books?id=B0eIbwlkK6gC&pg=PA250&lpg=PA250&dq=i%09Arthur+Murray+(NSW)+PTY+LTD+V+FC+OF+T+(1965)+114+CLR+314&source=bl&ots=iEYTheL_2F&sig=X4K4JsOx5yGn4jtJ7sJlJuTZrQw&hl=en&sa=X&ved=0ahUKEwjP8efI5__OAhVJtY8KHclkDpMQ6AEIRzAI#v=onepage&q=i%09Arthur%20Murray%20(NSW)%20PTY%20LTD%20V%20FC%20OF%20T%20(1965)%20114%20CLR%20314&f=false

Etax.com.au. (2016). Rental Property Tax Deductions: Remember to Claim These. [online] Available at: https://www.etax.com.au/rental-property-expenses [Accessed 8 Sep. 2016].

INCOME TAX ASSESSMENT ACT 1997. (2016). Austlii.edu.au. Retrieved 8 September 2016, from https://www.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/

Nab.com.au. (2016). Detailed tax information about dividends (Cash Dividend, DRP, and BSP). [online] Available at: https://www.nab.com.au/about-us/shareholder-centre/dividend-information/detailed-tax-information-about-dividends-cash-dividend-drp-and-bsp# [Accessed 8 Sep. 2016].

Tiley, J. (2004). Studies in the history of tax law. Oxford: Hart.

Ato.gov.au. (2016). Deductions for prepaid expenses 2014-15 | Australian Taxation Office. [online] Available at: https://www.ato.gov.au/Forms/Deductions-for-prepaid-expenses-2014-15/?page=2 

Ato.gov.au. (2016). Vacant land | Australian Taxation Office. [online] Available at: https://www.ato.gov.au/General/Property/Land—vacant-land-and-subdividing/Vacant-land/ [Accessed 14 Sep. 2016].